Manipulation Possible in Benchmarks Besides Libor

The same lack of oversight that enabled traders to manipulate the London interbank offered rate plagues other benchmarks around the globe, according to a group of international securities regulators.

Fewer than half of the benchmark interest rates surveyed in the U.S., Europe and Asia were based on actual transactions, according to a confidential International Organization of Securities Commissions discussion paper obtained by Bloomberg News. Instead, the rates were calculated by methodologies that were unclear, not transparent and only rarely subject to specific regulatory standards or obligations, the group said.

"Iosco, as the international organization of financial market regulators, is firmly committed to restoring confidence in benchmarking activities globally," Masamichi Kono, chairman of the Iosco board, said in a Sept. 14 statement.

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Iosco spokeswoman Carlta Vitzthum declined to comment on the discussion paper.

Scrutiny of financial benchmarks has intensified since June, when Barclays Plc, the U.K.'s second-largest bank by assets, agreed to pay $460 million for its role in trying to manipulate interest rates. In a global probe that has ensnared banks including UBS AG, Citigroup Inc., Royal Bank of Scotland Plc and Deutsche Bank AG, investigators have focused on whether traders coordinated submissions to the survey-based rate to profit from derivatives positions.

Libor is derived from a survey of banks conducted each day on behalf of the British Bankers' Association in London. Lenders are asked how much it would cost them to borrow from each other for 15 different periods, from overnight to one year, in currencies including dollars, euros, yen and Swiss francs. After a set number of quotes are excluded, those remaining are averaged and published for each currency by the BBA before noon.

According to the discussion paper, about 80 percent of benchmarks were either compiled by associations or private entities. For survey-based benchmarks like Libor, the criteria for submitting data was not always objective and called for judgments about rates and prices, according to the discussion paper. Even in benchmarks that are based on actual transaction data, the compiling bodies retain discretion in producing the actual rates or prices.

"The risk of manipulation will be greater where participants in the process have both incentive and opportunity to submit inaccurate data or apply a methodology inaccurately," the authors said in the paper. "Furthermore, where judgment is required in determining the data to be submitted, the problem is particularly acute."

Informal Review

The discussion paper was in part based on an informal review by an ad hoc group of member regulators of benchmarks that are set in their jurisdictions. The members of the group included regulators from the U.S., U.K., Germany, France, Japan, Hong Kong and Australia, according to the document.

A Bloomberg Poll conducted this month found that 44 percent of analysts and traders who are Bloomberg subscribers predicted that Libor will be replaced by a benchmark subject to greater government control within the next five years.

While these characteristics make a range of benchmarks susceptible to manipulation, many regulators have limited authority to take enforcement action against traders or entities that tamper with the process since they are generally unregulated activities, according to the paper.

Last week, IOSCO created a task force to develop policy guidance on how benchmarks should be compiled and regulated. The exercise, which is being led by Gary Gensler, chairman of the U.S. Commodity Futures Trading Commission, and Martin Wheatley, managing director of the U.K. Financial Services Authority, follows a similar effort to establish best practices for reporting oil prices.

"Presently, there is little evidence that the current scope and severity of global sanctions regimes provides effective deterrence," the authors said in the paper.

Bloomberg News